The great fall of China

While the western mainstream media has described the present market crash as “this is all China’s fault” – despite the fact that the real break happened after the FOMC Minutes last week – the Chinese Xinhua said that the China central bank Tuesday blamed <g data-gr-id="105">wide-spread</g> expectations of a Fed rate hike in September for the global market rout. Yao Yudong, head of the People’s Bank of China’s Research Institute of Finance, said the expected Fed rate hike next month had been the “trigger” for the wild market swings. He also cautioned that the Fed rate hike could accelerate the plunge of U.S. stocks and trigger a sell-off of assets worldwide and even a new global credit crisis. Obviously there is an imperative need for the Fed to remain patient before the US inflation reaches two <g data-gr-id="106">per cent</g>.

<g data-gr-id="93">Nevertheless</g> the leading US media felt that China could not effectively handle <g data-gr-id="92">its</g> financial situation. The devaluation of Chinese currency the Renminbi triggered the plunge and the weakening of bulk commodities and currencies in other countries. They feel that blaming Fed is a simple ploy to divert attention from the failure. <g data-gr-id="90">Meanwhile</g> Capital Economics said in a research note; “The global <g data-gr-id="75">rout</g> has little to do with economic fundamentals and the Asian financial crisis would not be repeated.”

When markets in Shanghai closed on Monday, stocks were down 8.5 <g data-gr-id="94">per cent</g> – the Shanghai Composite’s worst single-day fall in eight years and. The People’s Daily, the Communist party’s mouthpiece, declared the day “Black Monday”. The nervousness has radiated outward from China.

Two immediate questions arise: what has caused the jitters in markets, and how much should investors worry? The first is the easier to answer; the sea of red is down to China and the Fed. The proximate cause for all this is a chain of events that began with the surprise devaluation of the yuan on August 11. More than $5 trillion has been wiped off on global stock prices since then. Today’s Chinese-market meltdown seems to have been driven by disappointing data, which suggested that China’s industrial activity is slowing sharply, and by the failure of the Chinese government to unveil bold new market interventions today to prop up equity prices. Weakening outlooks for Chinese growth, and a slip in China’s currency, have combined to put pressure on other emerging economies – and especially those whose growth model depends on Chinese demand for industrial and other commodities.

This crash has occurred at a time when the global economy is right in the middle of a significant transition, as rich economies try to <g data-gr-id="112">normalise</g> policy while China tries to rebalance. That transition is proving a difficult one for policymakers to manage, and markets are wobbling under the strain. Unlike 1997 or 2008 the Asian governments <g data-gr-id="110">are</g> in far better shape to weather the changes in the economic climate. The global banking system is much more <g data-gr-id="95">hale</g> than it was on the eve of <g data-gr-id="109">financial</g> crisis. Nevertheless fundamental questions are being raised about China, an economy which now accounts for 15 <g data-gr-id="80">per cent</g> of global GDP and around half of global growth. The odds of a sharp Chinese slowdown will grow if China’s government reacts to market turmoil by ending the process of structural reform that is meant to facilitate a rebalancing. Interestingly like India’s Reserve Bank of India, the Chinese Central bank too has been under pressure to cut rates. The central bank has announced that it would cut its saving and lending rates by 0.25pc<g data-gr-id="114">,</g> and slash its key reserve requirement (RRR) for banks by 0.5pc from September 6. The RRR cut is expected to inject around $107bn of liquidity into the economy.

In contrast analysts at Morgan Stanley believe a US rate hike remains on the cards this year. In a client note, they said: “We think the Fed remains a cautious body that would want to see the dust settle before making a determination to move forward with a rate hike. We believe they will take a pass on September, but will continue to stay hopeful of a hike in the not too distant future. We think that not too distant future is December. It is too early to throw in the towel on a rate hike this year – to do so at this point we think would send the wrong message to markets and risk pushing market jitters to greater heights.”

<g data-gr-id="102">However</g> the western think tank and financial experts feel that Chinese turmoil will not derail UK recovery. Analysts at Investec remain upbeat about Britain’s growth prospects, despite the recent turmoil. In a client note, they said: “Growth prospects remain bright, given that domestic drivers remain positive and that productivity is picking up. Our GDP forecasts remain 2.7pc this year and 2.8pc next and we note that next month’s “Blue Book” is set to revise up GDP for prior years. Our rate hike call timing remains Q1 <g data-gr-id="100">2016,</g> though we note the strength of sterling, which is up by 6pc so far in 2015 in <g data-gr-id="99">trade weighted</g> terms."

China’s state Xinhua news agency is quoting a People Bank Of China official who has attributed the August stock sell-off to the Federal Reserves move to raise rates in September. Yao Yudong, head of the People’s Bank of China’s Research Institute of Finance, said expectations for a hike had been the “trigger” for the wild market swings. Beijing central bank will likely slash its reserve requirement ratio by at least another 1pc “in the coming months,” Frederic Neumann at HSBC has told Bloomberg. Obviously it implied that Chinese officials have become more worried about the prospects for the economy and <g data-gr-id="117">makes</g> it more likely that they’ll follow up with further easing measures in the coming weeks and months.

China’s stock market had a debt-fueled boom, followed by a crash. <g data-gr-id="84">Its</g> worth mentioning that between June 2014 and June 2015, China’s Shanghai Composite index rose by 150 percent. A big reason for the stock market rally was that a lot of ordinary Chinese people began investing in the stock market for the first time.

More than 40 million new stock accounts were opened between June 2014 and May 2015. Many

have been buying stocks with borrowed money. Earlier this year, the authorities became concerned that the stock market’s rise had become unsustainable. So they began to tighten limits on debt-financed stock market speculation. The stock market peaked in June and then began to fall quickly.

By early July, the market was in free fall, and the Chinese government began to panic. Authorities took a number of steps to push stock prices back up: The central bank provided more cash to the China Securities Finance Corp, a state-run company that lends people money so they can buy stocks; Initial public offerings were suspended, so that newly issued shares wouldn't compete for capital with those already on the market; and. Companies’ major shareholders – those with more than five <g data-gr-id="103">per cent</g> of a company's shares, as well as executives and board members – were banned from selling shares for six months. The China's securities regulator ordered companies to either buy their own shares or encourage their executives or employees to do the same.

Notwithstanding the general Indian perception that Chinese economy is growing, the western media nurses the feeling that the Chinese economy isn’t doing very well either. Official figures show the Chinese economy growing at a seven <g data-gr-id="83">per cent</g> rate in the second quarter which is slow by Chinese standards, and quite interestingly many Western economists suggest that the official figures overstate China’s growth. While most analysts point to structural fault lines in China’s economic and political system as the ultimate culprit, many Chinese investors assign blame to a Western conspiracy in general and leading U.S. financial institutions such as Goldman Sachs and Morgan Stanley in particular as the root cause of the stock market woes – despite the fact that foreigners are generally restricted from investing in Chinese stock exchanges.

Ironically the United States has been singled out as the primary evildoer against the glorious socialist country, whose rise to prominence in the past two decades is said to have stoked fear in US Beijing believes Washington is behind an elaborate and well-coordinated conspiracy and has been working to shatter the Chinese dream of restoring the Middle Kingdom to the historical and cultural dominance it held before the turn of the 19th century. The plunge in its booming stock markets, which had more than doubled in the year to mid-June, is a major problem for President Xi Jinping and China's top leaders, who are already grappling with slowing growth in the world's <g data-gr-id="104">second largest</g> economy and another bursting bubble. IPA